The issuers facing arguably the
toughest challenges in euroland are EU sovereigns. Aside from the
benchmark issuers, Germany and France, state treasury officials
have suddenly found themselves as a part of Europe's credit
markets.

Gone are the days when they could issue to a loyal domestic
investor base. Now they have to compete for funds by providing the
product that investors want across euroland and beyond.

Philip Moore spoke to some of the major EU sovereign funding
officials to find out how their approach to borrowing in euroland
has changed.

For an observation about the speed with which primary
government bond markets in euroland are transforming themselves,
head north.

Helsinki is about as far north as you can get within the Emu
block, and at the State Treasury of Finland, director of finance
Satu Huber says that she has been surprised by the pace of change
within the market. "In 20 years of being a banker I never saw
people change their minds as often as they have in the last eight
months," she says.

It is not difficult to see why these changes have come about. At
the other geographical extremity of euroland, in Lisbon, Vitor
Bento, chairman of Portugal's Public Debt Office, says that in one
sense the launch of the euro has made his life easier, because it
has helped to bring spread differentials for southern European
borrowers down so dramatically.

But he also echoes a number of other smaller sovereign issuers
in euroland when he says that "we used to be kings in our own
fairly small market; now we are pawns in a much bigger market."

Superficially at least, virtually all of euroland's sovereign
borrowers beyond the benchmark issuers of Germany and France
already seem to have done an admirable job in repositioning
themselves as credits in the context of an integrated Europe.

A number have done so by expanding their yield curves, improving
the structures of domestic auctions, adding to their base of
primary dealers and, in some instances, opting for a syndicated
primary market approach as a means of supplementing the traditional
auction method.

In many cases, the response to Europe's changing realities has
been distinctly proactive, rather than lethargically retroactive.
Christine Holm, director of the Swedish National Debt Office, for
example, insists that the internationalisation of Sweden's domestic
government bond market has been continuously evolving since the
early 1990s, with the launch relatively early of products such as
index-linked bonds and parallel euro-domestic issues.

More recently, she says, that process has been extended further
still - with the introduction of a stripping facility, for
instance, together with the expansion of the panel of authorised
dealers to include two additional overseas representatives in the
form of JP Morgan and Salomon Smith Barney.

Holm also points out that, in contrast to a number of other
European sovereign issuers, Sweden has always been viewed as an
international credit. "Traditionally between 20% and 25% of our
domestic government debt has been held by overseas investors," she
says, "and the foreign currency debt issuance of the Kingdom of
Sweden has always attracted a very strong international
following."

Other European sovereign borrowers also say that they have seen
a substantial shift towards foreign ownership of their domestic
product in recent years.

For example, Helmut Eder, managing director of the Austrian
Federal Financing Agency, insists that Austria was what he
describes as a "euro-optimist" by the late 1980s, and that it
started to internationalise its domestic auction system in 1990 as
a result.

"To give you a figure," he adds, "by December 1997 between 40%
and 90% of every auction we held was taken up by the international
primary dealers, and in the case of a 30 year auction earlier this
year 92% was placed internationally."

In Brussels, Louis de Montpellier, director of strategy and risk
management at the Belgian treasury's Debt Agency, makes a similar
point. For Belgium, the need to diversify its investor base was
especially pressing, given that in 1998 (the latest year for which
reliable statistics are available), around 90% of Belgian debt was
held either by domestic or Luxembourg-based investors.

"It was pretty obvious to us a number of years ago that we were
going to have to adapt our borrowing strategy in accordance with
our diagnosis about the impact of the euro," says de
Montpellier.

"We knew that the launch of the euro would present us with a
challenge over the short to medium term because it would lead the
domestic investor to diversify internationally, and so we would
have to offset the outgoing flows with incoming flows. If not, our
spreads would widen. But we also recognised that if we responded
sooner rather than later we could turn this development to our
advantage by more than offsetting these flows."

The strategy, says de Montpellier, therefore focused on
internationalising the public debt investor base and therefore
adapting the domestic auction system to this new audience well in
advance of the euro's launch.

This included expanding the size of the primary dealer base to
18 by allowing dealers to be located anywhere within the EU rather
than exclusively in Belgium. It also meant adding on five so-called
"recognised dealers" which are not tied to minimum market shares in
the primary and secondary markets, three of which - HSBC, Nomura
and Bank of Tokyo-Mitsubishi - are focused on Asia.

A more recent development among smaller European sovereign
borrowers has been the superimposition onto their domestic
government bond issuance programmes of Euromarket mechanisms such
as pre-marketing, bookbuilding and syndication.

In April 1998, for example, Sweden launched an Eu2bn domestic
government bond issue via JP Morgan, Paribas and Warburg Dillon
Read priced at 11bp over OATs.

The following month, Finland adopted a similar approach when it
launched its first syndicated Eu2bn transaction structured as a
domestic government bond via JP Morgan and Paribas, priced at 8bp
over.

According to Huber, this deal heralded a new era of liquidity in
the Finnish government bond market. "It may not look like a big
deal by today's standards," she says, "but at the time it was a
very sizeable issue, and since then its size has been increased
through regular auctions."

She adds: "Our May issue was aimed at creating liquidity via the
syndication process and adding further liquidity later through the
auction mechanism. The other purpose of the May deal was to tell
investors that the economy was in good shape, to widen the investor
base and to impress upon Eurobond investors that buying a domestic
government bond was as easy as buying a Eurobond."

Huber explains that, as a relatively small borrower in
the context of euroland, it was important for Finland to establish
its benchmark well in advance of formal European Monetary Union.
"At the time we wanted to issue before the shelves were full and
take advantage of supply being smaller than demand," she says.

Since last summer, other borrowers have embraced the syndication
mechanism with enthusiasm. In January, for example, Portugal took
an immense stride towards the internationalisation of its domestic
market when it launched an Eu1.5bn obrigacao do Tesouro via
ABN Amro, BNP and Caixa Geral de Depositos, priced at 25bp over
2009 Bund, which represented a level equivalent to 2.5bp through
Spain.

In response to strong demand from Asian accounts to exposure to
the new European currency, an important element of this deal was
the addition by Portugal of Nomura (and later of Daiwa) to its
panel of primary dealers for the transaction, the size of which has
since been increased by a series of monthly auctions.

"The aim of the deal was to spread our paper among different
investors, to increase the visibility of the name and to exercise
more control over the pricing," says Bento.

"We also wanted to start out with a sizeable amount. Although
Eu1.5bn may look small in the broader context of the euro, it is 10
times the average size of a domestic auction. It has been a very
considerable success because up to two thirds has been placed among
investors outside Portugal," he adds.

Also in January, and with broadly the same objectives as
Portugal, Belgium launched a record-breaking Eu5bn OLO via ABN
Amro, Generale and WDR priced at 26bp over Bunds, or 17bp over
OATs.

"It was absolutely clear that we could never have raised as much
as Eu5bn through a single auction," says de Montpellier. "The
average size of an auction is about Eu1.3bn, and although you can
increase the size of auctions you can seldom do so without damaging
the spread."

De Montpellier says that he was delighted with the market's
response to the Eu5bn offering. "In the few days after launch it
tightened by a couple of basis points, and it stabilised at the
same level for the next few months. It is a little wider now but
that has nothing to do with anything relating specifically to the
Belgian credit. I would say we achieved a very satisfactory pricing
pattern as a direct result of the syndication process."

This was in part because of the very broad distribution of the
issue, which according to de Montpellier saw 32% of the deal placed
in Belgium and Luxembourg, 37% in the rest of euroland, 16% in
Switzerland, 5% in the UK, 5% in non-Japan Asia and 2% in
Japan.

"In total we reached more than 400 institutional accounts in
Europe and elsewhere," says de Montpellier, "many of whom were new
to Belgian debt."

Syndicate officials at the lead managers of the Belgium deal
agree that the Belgian OLO met all of its objectives. "Belgium did
not need to do much refinancing but it faced the problem of more
than 90% of its debt being held by local investors," says one
banker.

"Clearly the Eu5bn deal was hugely successful. Its size was
massive and very broadly placed. For example, we did not sell a
single bond to Belgium. Then again, Belgium paid probably a couple
of basis points on the re-offer spread more than it would have done
in an auction and fees on top of that."

Belgium followed its January OLO with the launch in April of an
Eu2bn floating rate OLO via Deutsche and Barclays Capital, with a
three year deal at Euribor minus 10bp aimed again aimed at
diversifying debt and reaching new accounts.

Although bankers say that this has been a highly illiquid
offering - "we've traded it once," says one - de Montpellier
disputes this. "We've seen consistently very tight bid/ask spreads
on the issue," he says, "and the fact is that an FRN will
inevitably be targeted at specific institutions such as central
banks and money market funds."

Among other non-benchmark issuers in Europe, Austria has also
been busy expanding its yield curve and further diversifying its
investor base via a blend of traditional auctions and syndicated
offerings.

Highlights this year have included a 10 year Eu1.1bn issue via
Deutsche, Nomura and WDR priced at 10bp over Bunds, and a punchy
Eu1.1bn 2004 Bundesanleihe priced at flat to Bunds via
Dresdner Kleinwort Benson.

The sovereigns appear to have made a good start to meeting the
challenges of euroland, although some bankers say that some smaller
issuers remain longer on rhetoric than on action - and that while
they may deserve high marks for what they have done at the primary
market level, they still have much to learn when it comes to
looking after the secondary market.

"Many of the smaller sovereigns have made a tremendous noise
about the progress they've made," says one banker, "but they have
not promoted themselves through roadshows and they have not really
changed the role which is played by domestic banks in the way they
fund themselves."

The borrowers themselves insist that this sort of criticism is
misplaced. On the subject of roadshows, de Montpellier at the
Belgian treasury says that he has just returned from a two week
visit to Asia aimed as much at discovering more about Asian
investors' attitudes towards the euro as at promoting Belgium's
debt.

But borrowers also insist that there is palpable evidence that
their changing strategies have achieved the dual aim of broadening
the investor base and reducing their borrowing costs. At the
Austrian treasury, for instance, Eder says that the liquidity
spread between Austria and Germany now ranges from between 5bp to
20bp depending on the maturity.

"In the 10 year maturity we now trade at 18bp over Germany," he
says, "compared to Holland and France which trade at about 15bp or
16bp over. I think that a spread differential of 2bp or 3bp
compared to Holland and France is very reasonable for a borrower
the size of Austria."

Smaller sovereign issuers in Europe also emphasise that,
in spite of the success of syndicated deals, there is no question
of turning their backs altogether on the conventional domestic
auction mechanism.

"If the question is, will we only do syndicated deals in the
future the answer is clearly no," says de Montpellier. "We will use
the syndication method when we think it can genuinely help the
primary dealers to distribute the paper more efficiently. But the
fact is that the savings ratio in Belgium remains high and the repo
system works well. So we don't expect to see the domestic investor
abandoning Belgian debt in packs."

In Vienna, Eder also says that the auction system will continue
to be the main plank of Austria's borrowing strategy. "The auction
system is still a highly efficient way of raising funds," he says.
"For example, we are one of the European sovereigns which has the
ability to cancel auctions if we feel unhappy about the bids. Of
course we don't like to do this, and we have only done so twice,
but it gives us added efficiency in volatile markets."

Syndicated deals, says Eder, will continue to have an important
role to play under specific circumstances. "From time to time we
may do block trades through syndication," he says. As an example,
he points to an underwritten Eu220m 2014 deal launched by Austria
earlier this year in response to reverse enquiry demand from
Asia.